OEM Licensing practices

[James Love <love@cptech.org>]

Reporting on OEM licensing practices.  jl


Subject: Who is Microsoft's secret power broker?
   Date: Tue, 3 Feb 1998 03:58:42 -0500 (EST)
   From: Mitch Stone <mstone@vc.net>
     To: Multiple recipients of list <am-info@essential.org>

Who is Microsoft's secret power broker?
By Mary Jo Foley
February 2, 1998 12:01 PM PST Sm@rt Reseller  

It all happened within minutes. The U.S. Department of Justice stepped
up its war on Microsoft Corp. and immediately two top Microsoft
executives were on the phone to PC makers, leaning on them to dispute
the government's argument. Their sole mission that wintry Dec. 17
afternoon in Redmond was to drum up support to wage war on the Justice
Department.  

The agency had petitioned U.S. District Court to find Microsoft (MSFT)
in contempt for not providing an adequate way of separating Internet 
Explorer from Windows 95. It had said previously that bundling the
browser with the operating system was a violation of the 1995 Consent 
Decree signed by Microsoft and the U.S. government.  

Microsoft argued it is difficult-if not downright impossible-to remove
the browser and all associated files from the most recent releases of
the operating system. And the question its two executives were putting
to hardware makers that day was rather blunt: Are you with us or against
us? 
 

On one Bat Phone was Steve Ballmer, Microsoft's executive vice president
of sales and marketing. In typically animated Ballmer fashion, he was 
pounding on tables and conjuring up images of breaking chairs to
convince hardware makers to back Microsoft on the record.  

Working the other phone wasn't Bill Gates. Nor was it senior vice
president of law, Bill Neukom. It was Joachim Kempin, senior vice 
president of Microsoft's OEM, or original equipment manufacturer,
division.  

A closer look at Joachim Kempin.  

Kempin was a seemingly sensible choice for calling on hardware vendors.
For hardware makers, the buck stops here. He has the final sign-off on 
all Microsoft licensing contracts with all hardware makers, from Compaq
Computer Corp. to Dell Computer Corp. to Germany's Vobis. And he is the
Microsoft official around whom swirls most of the current Microsoft vs.
DOJ fireworks.  

It is Kempin who determines which Microsoft products get preloaded on
which systems. He also wields the pricing sword. And he has the final
say about how much hardware vendors pay per seat for Windows, NT,
Office, individual Back Office applications and Microsoft's handful of
hardware products.  

Those agreements affect the margins of every hardware maker-and of every
reseller of that hardware-yet almost no one outside of those who
directly negotiate OEM deals with Kempin has ever even heard of him.
Nevertheless, the more Microsoft charges, the greater the pressure on
hardware and software margins and the more resellers must make up
elsewhere.  

Those agreements also limit the choices of resellers as to which browser
to use, which in turn affect their options for customizing the desktop
and offering additional services. But while Kempin clearly is a force to
reckon with at Microsoft, he also was an odd choice to corral OEM
support. Those who know him through their negotiations have few good
things to say about him. Kempin, who reports directly to Ballmer, didn't
get to where he is by being Mr. Nice Guy.  

"Everything Kempin does pisses us off," said an official with one of
Microsoft's largest OEMs, who requested anonymity. "He even parks his 
silver Porsche in the visitors' spot at [OEM] Building 18," the OEM
official continued, resulting in visiting hardware execs being forced to 
spend precious minutes circling while seeking parking on the Microsoft
campus.  

Added an official with another top Microsoft hardware vendor: "The only
way we can deal with [Kempin] sometimes is to have him thrown out of the
room and go straight to Ballmer. He drives his OEM team very hard. He
beats the hell out of them. We've definitely had some not-so-pleasant
conversations with the guy."  

In this story, not one hardware maker is on record. The word Sm@rt
Reseller received was that no one crosses Kempin and keeps his job. 
Kempin also is not quoted. Microsoft insiders concede that Kempin (like
another Microsoft executive, NT guru David Cutler) , is downright
prickly when it comes dealing with the press and is best left unseen and
unheard. 
 

Who is Joachim Kempin?  

Indeed, little public information is available on the 55-year-old
Kempin. According to testimony he gave to the Department of Justice
lawyers in October, Kempin joined Microsoft in 1983, where he started
out in Germany as country manager. Four years later he landed in the
United States as vice president of Microsoft in charge of the
then-fledgling company's support organization and the U.S. OEM group.  

In 1991, Kempin relinquished control of support and consolidated his
position as head of the international and U.S. OEM divisions. He 
currently holds the title of senior vice president and is in charge of
Microsoft's OEM Division worldwide.  

"My job is to basically set the sales and marketing goals for a certain
fiscal year and then basically make sure that the group achieves the 
goals," said Kempin in a sworn statement to the Justice Department.  

This all sounds modest enough-that is, until you take into account just
how powerful Microsoft's OEM group actually is. In fiscal 1997, ended 
June 30, Microsoft's OEM group contributed $3.48 billion, or nearly
one-third of the company's total net revenues of $11.36 billion. Even 
though Microsoft's financial gurus have warned Wall Street for years
that the operating system market, at least for desktops, is close to 
tapped-out, the OEM division managed to grow its revenue contribution
almost 40 percent, from $2.5 billion, in fiscal 1996.  

Playing monopoly  

How did the OEM group accomplish this? The old-fashioned way, by raising
prices in what is virtually a monopoly market (what choices do they 
have?).  OS pricing: The crux of the matter.  

Under Kempin's tutelage, Microsoft launched the Market Development
Agreement (MDA) licensing concept in 1994. The drill for hardware makers 
went something like this: If OEMs wanted to license Windows 95 but
didn't promote or sell it, they would pay a fairly hefty price per copy.
If they agreed to co-promote the operating system in ads or issue a
Microsoft-endorsed press release noting they had decided to offer their 
customers Windows 95 preloaded on new systems, they got a better price.  

The Windows 95 MDAs listed a dozen or so criteria through which OEMs
could lower their per-machine fees. Those agreeing to preload the 
operating system on at least half of their PCs each month got a
knock-off. Those agreeing to display the Windows 95 logo prominently on 
their advertisements got another benefit.  

Hardware vendors who okayed the whole list of Microsoft Windows 95
marketing criteria got a "bargain" rate of, on average, $60 to $70 per 
Windows 95 copy. That's for those who were considered tier-one hardware
makers, committing to move a lot of Windows 95 copies. But there were 
then-and are still now-only a handful of tier-one vendors, including
Compaq Computer Corp. and Gateway 2000 Inc. The next 12 to 15 vendors, 
constituting tier two, receive a slightly less favorable per-copy rate,
even if they agree to the bulk of the MDA criteria. Tier-three 
players-the rest of the OEMs with whom Microsoft does business-get an
even less attractive rate because they sell fewer boxes.  

OEMs were none too happy about the MDA deals. But one by one, they fell.
The last of the major hardware makers to sign on the dotted line to
carry Windows 95 was The IBM PC Co. Officials there signed the MDA just
hours before Microsoft released Windows 95 on Aug. 24, 1995, in the
costliest and most hyped product rollout ever.  

Decoupling IE  

Never ones to abandon a successful marketing tactic, Kempin & Co. have
perpetuated the MDA concept to this day, but with a few modificiations. 
"The original market development agreements were heavily laden with
[Internet Explorer] requirements," recalls one OEM official. "The MDAs 
Microsoft wrote last year [1997] didn't call out adoption of IE as a
criteria for gaining financial incentives."  

At least part of the reason that the IE criteria did not figure
prominently this year, according to some hardware vendors' theories, was 
the ever-present DOJ threat. By requiring OEMs to license IE as a
condition for licensing Windows 95, Microsoft could be considered guilty 
of "tying" the sales of unrelated products, some hardware makers
reasoned.  

On Oct. 2, the DOJ Antitrust division lawyers took Kempin's deposition,
in which he acknowledged that Microsoft required OEMs to agree to
license IE in order to license Windows 95. And on Oct. 20, the DOJ used
the tying argument as the basis for its argument that Microsoft violated
the 1995 Consent Decree.  

You can run but you can't hide -- excepts from Kempin's DOJ testimony.  

The next day, the DOJ-to the surprise of some of the OEMs in
question-released sworn statements of OEM officials from Compaq,
Gateway, 
IBM, Micron and Packard Bell NEC. (Sources close to the case say DOJ
officials later apologized to some hardware makers for making public 
their statements without warning them.) In those depositions, OEM
officials said they were required by their license agreements with 
Microsoft to ship IE with every copy of Windows 95 sold and to sport the
IE icon on every desktop of every new Windows 95 machine that went out
their doors.  

Something else came out with those statements, too-Microsoft's best-kept
secret, Joachim Kempin.  

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